Trading in foreign exchange markets is something that many business-minded investors turn to, not least because it aligns with their existing macroeconomic knowledge.
The key point here is that no market exists in isolation, as economic events in seemingly separate markets can affect every other market; It’s just that the degree of interconnectedness and the resulting influence are not always immediately apparent.
To promote informed decision making, we will also look at forex trading indicators alongside key economic indicators. This will allow you to make a much more informed judgment about whether it is the right time to open or close a particular position.
What are Forex Trading Indicators?
We begin our guide to forex trading indicators by defining them as a set of practical tools used by investors and business owners to make smarter decisions regarding the behavior of global markets. They can be viewed as characteristics of a particular Forex market and as characteristics that reveal something deeper about the market dynamics at play. Although they are signals, they are not concrete guarantees for future behavior.
Once we accept this important caveat, we’re ready to take a look at what they can teach business-minded investors.
What business-minded investors can learn from indicators
Indicators are proven methods to support an intelligent, proactive approach to risk management that takes timing into account and is informed by detailed trend assessments. While intuition and experience are useful to have at one’s disposal, a working knowledge of Forex indicators can help provide a consistent foundation for developing more detailed strategies. When you look at them as markers and signals of underlying market behavior and the associated buyer-seller psychology, you begin to see how useful they can be.
We would also like to emphasize that a truly business-oriented approach cannot be built using Forex indicators alone. These are signals sent by a specific market at a specific time. While they are very useful, they do not provide information about the broader economic outlook. We need to find a broader context in which we can better understand the current behavior of the market. We do this by looking at macroeconomic indicators, and we will return to this idea in more detail in the following section.
Important trend and momentum indicators
By delving into the following fundamental indicators, you will recognize common market behaviors and what is likely driving them at any given time:
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The moving average (MA) smoothes short-term volatility to highlight long-term price behavior
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The exponential moving average (EMA) provides a similar type of chart smoothing, but with more weighting to the most recent prices, making the chart more responsive to new data
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The golden cross occurs when a short-term moving average rises above a longer-term moving average and is an indication of an uptrend where prices may be about to continue rising
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The death cross occurs when a short-term moving average falls below a longer-term moving average, and is a sign of a downtrend where downward price pressure can reasonably be expected
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The Moving Average Convergence Divergence (MACD) is a highly dynamic indicator for detecting sudden changes in momentum. As support and resistance levels approach, they can signal buying and selling times for investors
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The Relative Strength Index (RSI) is a momentum oscillator that monitors the rate of change of price movements in a range of 0-100. Higher values ​​indicate overbought markets where a price correction may be imminent. Lower values ​​indicate oversold markets where a price rally may be imminent
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The Stochastic Oscillator is a momentum indicator used to identify overbought and oversold markets over an extended period of time
Each of these indicators describes a specific market behavior or characteristic and captures some of the information that can be used to describe the underlying psychology of the market. It is important to note that no single indicator can ever provide a comprehensive picture of how a market is behaving, and no number of indicators will be able to make firm predictions about future market performance. We need to combine these indicators with macroeconomic indicators to ensure we make decisions in a way that understands the broader economic context.
Basic economic indicators
The following key metrics describe the economic pressure points that drive long-term currency movements, regardless of how they are paired for trading:
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Increases in GDP typically lead to an increase in the value of the respective currency
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Increases in CPI generally lead to rising interest rates, which in turn attracts foreign investment and strengthens the associated currency
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Low unemployment rates tend to indicate good long-term economic health, leading to higher interest rates and stronger national currencies
Economic forecasts from central banks and annual budget announcements from national governments tend to have a significant impact on currency value. These events are always planned well in advance, allowing investors and traders to prepare a range of strategies to deal with the resulting volatility or uncertainty. Some traders find it helpful to use educational resources such as ThinkMarkets to learn more about how they can use forex trading indicators to interpret trends and strengthen their decision-making.
Develop optimal strategies using indicators
When used correctly, indicators become important building blocks for optimized strategies because they tell us about the underlying psychology of the market. In a world where it feels like we have a never-ending supply of data, news and information at our fingertips, it’s all about finding the treasures that really make a difference. With this in mind, we need to think about how we can combine indicators so that we don’t rely too heavily on a single metric or class of metrics. An example would be combining a trend following tool with a momentum oscillator so we can see both the direction and likely future direction of a chart.
Using multiple indicators not only provides a broader and more comprehensive picture, but also a picture that is more likely to be accurate. As we all know too well, there are no guarantees in economics, but comparing indicators with each other allows us to gain more confidence in what we think we see. Introducing macroeconomic data ensures that we are never inadvertently caught off guard by a major news event or budget announcement that will have a profound impact on thousands of different markets around the world. Indicators can then be combined with stop-loss orders to limit potential losses in the event of a sharp shift from an already entered trading position.
Final thoughts
Entrepreneurial investors need to view foreign exchange markets as components of a broader macroeconomic outlook on a global scale, rather than as isolated markets largely insulated from external activity. Only then will they be able to understand local changes taking into account the global economic context.
In fact, using Forex markets as a test case can help experienced investors gradually develop strategies that they can then apply to other markets. This can refine the understanding of important nuances and help identify subtle differences between seemingly similar market conditions that can quickly lead to large divergences.
